Why Reserve Bank of India Spooked Investors?

The Indian central bank, i.e. the Reserve Bank of India spooked investors with its policy decision. The month of September 2018 had been full of challenges for the Indian market. It seemed like a perfect storm had been brewing for quite some time. Finally, the chickens came home to roost when the prices of oil in the global market started rising. Several other factors were also affecting the Indian markets. For instance, the Indian rupee has reached historic lows against the United States dollar. Also, the country has been engulfed by a mega banking crisis, and the number of bad loans has been steadily rising. There are now some irregularities in the housing finance sector. The countrys largest infrastructure builder has also gone bust.

It would be safe to say that the Indian investors had a lot of expectations from the Indian central bank. However, based on the policy decision that has been taken by the bank, these expectations have not been fulfilled. The end result has been a major fall in the stock market as well as the investor sentiment.

In this article, we will have a closer look at how the RBIs decision affected the interests of the investors.

The Carnage In the Market

In the past few days, the Indian stock market has been very volatile. The intra-day fall in the Sensex was more than two percentage points on four separate occasions. This negative sentiment is not restricted to India alone. Instead, there has been a similar fall in all the markets across the world. The emerging markets have been impacted more. The underlying reason is that the Fed is raising interest rates. This means that the opportunity cost for foreign investors is higher. This is the reason that they are selling off their investments and reallocating their funds to American securities. Indian investors expected action from the RBI in order to stem this fall. However, no such action has been taken.

No More Rate Cuts

The RBI had spooked many investors when it decided to not take any action in the current meeting. However, the RBI has clarified its stance for the future. RBI has denoted that its future actions will be in line with its calibrated tightening philosophy. This means that a rate cut is simply off the table for the foreseeable future. In the future meetings, RBI will only do one of the two things, i.e. it will raise the rates, or it will keep the rates unchanged. Since the price of equity stocks is negatively correlated with the interest rates, this has come as bad news for many investors. This is the reason why RBIs decision sparked a massive sell-off with the Sensex dropping as much as 1000 points during the intra-day trading sessions.

No Defense for the Rupee

The Indian rupee has been witnessing an unprecedented fall. This is once again because of the Fed which has raised interest rates. These raised rates are now causing an exodus of dollars out of India. As a result, more and more dollars are being bought, and rupees are being sold. This sudden supply glut of the rupee has resulted in a crash with the rupee now trading at close to 74 per dollar.

Indian investors had expected that such a drastic fall in the value of the rupee will send alarm bells ringing in the RBI. Hence, some stern action was expected. Investors wanted rates to be raised further to stem the fall of the rupee and prevent the market from crashing further.

However, the RBI has come out with a nonchalant stance. The governor Urijit Patel categorically mentioned that they are not really concerned about the fall in the value of the rupee as long as the economic fundamentals are not affected. This announcement was completely contrary to the expectations of the masses. This is the reason why investors felt the need to exit the market. They believed that the stock market is heading towards doom in case the government fails to stem the fall of the rupee.

Bonds Rejoice

The bond markets, on the other hand, are now showing bullish sentiment. The interest rates have been on a downward trajectory for the entire past decade or so. This is the reason why the Indian bond market has been subdued ever since the crisis of 2008 broke out. The RBI signaled that from now on, interest rates are only bound to rise. This was good news for many prospective investors. Although the prices of existing bonds fell, future bond issuances are likely to attract a lot of interest. As interest rates rise, investors prefer not to take a risk. The safety that government bonds provide is of paramount importance during these times.

Industry Slowdown

Lastly, the RBIs decision has had an impact on individual sectors as well. The real estate sector in India is already subdued. They were expecting a rate cut in order to spur sales. However, now RBI has made it very clear that there arent going to be any rate cuts in the near future. This has caused investors in the real estate sector to lose confidence. Since construction is one of the largest industries in India, this loss of confidence is likely to have a negative impact on the entire economy.

To sum it up, investors were expecting help from RBI. However, since the RBI has not made any policy changes, the investors seem to have lost confidence. This loss of confidence is what caused the mayhem in the equity markets.

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The article is Written By Prachi Juneja and Reviewed By Management Study Guide Content Team. MSG Content Team comprises experienced Faculty Member, Professionals and Subject Matter Experts. We are a ISO 2001:2015 Certified Education Provider. To Know more, click on About Us. The use of this material is free for learning and education purpose. Please reference authorship of content used, including link(s) to ManagementStudyGuide.com and the content page url.

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